How I Use A Barbell Investing Strategy To Avoid Financial Ruin

hank

I find in reading both the board and the financial press a lot of confusion or conflicting opinions as to what the “barbell“ approach is. This article explains / exemplifies how I’ve always viewed it and how the barbell approach differs from conventional portfolio construction - including the traditional 60/40 approach. It seems to me the distinction rests partially on psychology. But that shouldn’t obscure substantial real differences.

Main Article https://www.goodfinancialcents.com/barbell-investing-strategy/

Additional Sources: I feel the original article, while not bad, leaves a lot to be desired. Part of the problem is there are various ideas about how to construct and benefit from a barbell approach. Following, I’m listing additional sources and alternate barbell interpretations:

- “The barbell strategy is an investment concept that suggests that the best way to strike a balance between reward and risk is to invest in the two extremes of high risk and no risk assets while avoiding middle-of-the-road choices.” Investopedia

- “One variation of the barbell strategy involves investing 90% of one's assets in extremely safe instruments, such as treasury bills, with the remaining 10% being used to make diversified, speculative bets that have massive payoff potential. In other words, the strategy caps the maximum loss at 10%, while still providing exposure to huge upside.[6] This strategy works best during periods of high inflation ...” Wikipedia

- “The barbell investing strategy, advocated by Nassim Taleb, can take many forms and may be structured in such a way that some of the holdings take significant (well above average) advantage of market movements, while another part of portfolio is very low risk and isn’t affected by major market moves. Another type of barbell portfolio is to include assets that fall on opposite ends of a chosen spectrum.” Vantage Point Trading

- Unlike a real barbell, the amount invested at each end of the portfolio isn’t necessarily the same. For example, you might have 80% in safer assets and 20% in riskier assets, depending on what will produce the best balance of risk and return ..... The traditional use of the barbell approach is in bond investing .... When applied to equities, a barbell often means investing most of the portfolio in low-risk stocks (typically large blue chips in defensive sectors) and the rest in higher-risk stocks with higher potential returns (eg, small caps or emerging markets) ..... A barbell approach can also apply when investing across asset classes as well as within them. One strategy would be to invest much of the portfolio in very safe assets (cash or very short-term government bonds) and the rest in extremely risky assets that have very high potential returns under certain circumstances, but a high likelihood of large losses or ending up completely worthless.“ Christopher Wood

bee

Thanks @hank...lots of great resources in addition to your article at this website.

FD1000

Interesting ideas and definitely unique but I don't agree with this article and here is why:
1) Most investors should just use a simple formula and be invested at all times according to their goals. It's easy and makes sense
The writer is so much off main stream investing style.
2) 80% cash? + 10-15% in startups and a decent size cryptocurrency?
Ridiculous ideas

No need to go further

hank

Thanks @FD1000 for commenting.

The author’s personnel allocation (80% cash / 20% high risk) seems a little nuts to me too. I understand the logic - even though I wouldn’t invest that way. I believe his allocation serves to drive home the concept of “barbelling”. Sometimes taking an argument / line of reasoning to its logical extreme is a good way to demonstrate a point. Certainly, there are less extreme applications for the barbell.

I have moved over the past year from a straight balanced portfolio to a more “barbellish” approach - owing to presently very high equity valuations coupled with extremely low interest rates. I prefer short & intermediate duration bond funds of good quality over cash. I’ll concede, however, that cash might well be the smarter option.
-

FYI : I’ll be adding additional sources and “takes” on the barbell strategy to my original post. Hope folks so interested will take a look at the additional ones.

msf

A barbell approach to asset allocation can work. It's one of several approaches to dealing with sequence of return risk. I've posted more than once about this. It's also what Buffett was suggesting with his recommendation of 10% short term Treasuries (effectively cash) and 90% S&P 500 index.

While I might suggest something closer to 20/80 (cash/equity) than 10/90, and I might suggest a bit more diversification on the equity side, I don't have problems with the general idea.

What do have problems with is what hank described as "a little nuts" - going 80/20 rather than 20/80.

If we assume inflation of around 1.4% (COLA for SS in 2021 is 1.3%) and a 7% rate of return on equity for the foreseeable future (a decade), an 80/20 mix may not even match inflation: 80% x 0% (cash) + 20% x 7% (equity) = 1.4%. And that's before taxes.

davidrmoran

>> a 7% rate of return on equity for the foreseeable future (a decade)

wow, that would be awesome

Derf

Whoa --100K assets = 80 K X .5% ( Bondo's )+ 20K @7% so $400 + 1.4K += $1.8K On the other hand ,what if negative rates come into play !! ??
Some bed time thoughts, Derf
P.S. I stand corrected.

msf

Now you're on a slippery slope toward a traditional portfolio asset distribution and away from a barbell (zero risk and high risk, nothing in the middle). Once you add bonds, you're proposing a different allocation regimen with likely higher risk as you noted (whether of negative rates or loss of principal from rising rates).

His barbell strategy:


A traditional strategy (note that the leftmost category excludes bonds):

hank

FWIW - I’m betting on a bounce in high quality (intermediate duration) bonds when equities crash. Probably short-lived. Enough time to pick up the pieces and move on. So I see my bond exposure as adding additional ballast at the opposing end of bar.

I’ve got one foot in traditional allocation and the other one on the barbell. I think this puts me at some type of Lagrange point overall.

PS - Have added a few more articles to the original post. - FYI

bee

@Derf, Are your bonds paying 5% (.05) or .5% (.005)...wouldn't .5% on $80K = $400, not $4K?

MrRuffles

"Barbell investing” gives me flashbacks of the late (but not lamented) IPS Millennium Fund which used to use that phrase and an accompanying barbell graphic to describe its investment strategy.

FD1000

I don't see a lot of options for Joe the typical investor who like to hold several funds for years.
The main problem is bond funds. Index bond funds and even conservative managed funds such as VG funds will probably make 1.5-2% on average in the next several years.
If Joe is young then he should hold plenty of stocks.
If Joe is retired and wants to lower volatility and especially if he has enough money to keep his lifestyle then he must hold a lot more bonds. It's a lot harder now than several years ago and why Joe may use Multi sector funds. A fund like PTIAX is such a fund with about 4% yield, reasonable risk/reward, a possibility to make 4% annually which is worth it in my opinion.

Baseball_Fan

Hmm.

Seems to me that what is being referred to as a barbell portfolio is really Taleb's anti-fragile portfolio...don't risk at all what you need and be very aggressive with a smaller percentage...similar to the ETF DRSK.. I think this makes a lot of sense in today's investing environment. Morgan Housel in his new book, The Psychology of Money has a chapter about greed and the "goalposts never stop moving"...ala Bernstein's statement, if you've won the game stop playing. Many can't stop tinkering with their portfolio and keep chasing higher returns when they don't have to.

With tongue in cheek and no disrespect meant to anyone, I'd like to introduce the "Dumbbell portfolio". That is when you think you are smarter than the markets, keep investing in an environment where there is untested money being "printed" by central banks across the world, socio-economic class warfare, fundamentals don't matter, structure of our work force is changing, debt up the wazoo, Universal Basic Income being discussed, casino/video gambling, weed legal, sports gambling legal, concealed carry, surveillance capitalism and algorithm brainwashing, what is next? Legalized prostitution? What the heck has this country turned into?! ...and you think it is safe to put your life savings in the stock and bond markets. Who says the guy who puts 10-15% of his dough that he doesn't need to live on in Bitcoin is nutso, I'm not so sure....

Remember...there is no saying that these low interest rates are going to be here forever, sure might be 2 years, 5 years, 10 years, but maybe not.

Rule one, don't lose money...

Good Luck to all,

Baseball_Fan

hank

To be clear - I’m not recommending this approach or any other one. Tossed the topic out for folks to kick around - which they seem to be doing a pretty good job of.

Virtually every fund prospectuses (including those pertaining to bond funds) contains the warning: “You may lose money”. Folks who don’t want to risk principal should stick to cash. But if everyone felt that way, there wouldn’t be any need for MFO ... would there?

msf

if you've won the game stop playing.

Ah, the Suze Orman approach to investing (circa 2007):

Do you enjoy spending money? Oh, yes. My greatest pleasure is still flying private. I spend between $300,000 to $500,000, depending on my year, on flying private.

What do you do with the rest of your money? Save it and build it in municipal bonds. I buy zero-coupon municipal bonds, and all the bonds I buy are triple-A-rated and insured so that even if the city goes under, I get my money.

(Even Orman concedes that in this low interest rate environment she puts some money into stocks, though most is still in munis.)

I'd like to introduce the "Dumbbell portfolio"


Universal Basic Income being discussed

The idea isn’t new. As [David] Frum notes, Friederich Hayek endorsed it. In 1962, the libertarian economist Milton Friedman advocated a minimum guaranteed income via a “negative income tax.” In 1967, Martin Luther King Jr. said, “The solution to poverty is to abolish it directly by a now widely discussed measure: the guaranteed income.” Richard Nixon unsuccessfully tried to pass a version of Friedman’s plan a few years later, and his Democratic opponent in the 1972 presidential election, George McGovern, also suggested a guaranteed annual income.

https://www.theatlantic.com/politics/archive/2014/08/why-arent-reformicons-pushing-a-guaranteed-basic-income/375600/

Virtually every fund prospectuses (including those pertaining to bond funds) contains the warning: “You may lose money”.
That includes not only bond funds but money market funds, including Treasury MMFs. It's a matter of understanding what the risks are and rationally evaluating whether particular choices are worth the risks to you. (I know that sounds like motherhood; the key word is rationally.)

Derf

@bee; You would be correct .5 = $400 (NOT) $4k. Good catch !
Stay Safe, Derf

shipwreckedandalone

When you hear the phrase "barbell strategy" among investment professionals it has a wide spectrum of meaning. Taleb is reported to have had some eye opening return numbers advising Universa. I personally enjoy his thoughts and philosophy on how to enjoy life more than his work on investment strategy.

hank

shipwreckedandalone said:

“When you hear the phrase "barbell strategy" among investment professionals it has a wide spectrum of meaning ...”

That’s been my experience as well. I recall a recent Barron’s “Mid-Year Roundup” (or whatever they call it) in which a couple money managers alluded to moving to the barbell approach. Seems to me they feel the “middle-ground” investment approach is in trouble now because typical income-earning investments aren’t working. That’s due to not just low rates on investment grade bonds. EM & HY bonds hadn’t done much either this year up to that point. And look at the disaster PRFDX - once considered a conservative fund - has experienced lately.

In short, I think some professional managers had decided to “gamble” a bit more out on the “growthier” risk end of the portfolios, but also to keep a higher amount in cash and high quality bonds. One even alluded to expecting losses with his bonds, but felt they offered some protection in the event of a severe market sell off. (Sorry. No link - I read the print Barrons and don’t have time to track the story down. Additionally, Barrons is tough to link due to its paywall.)

Footnote - EM bond funds may have turned around since that story, especially if unhedged, as the dollar’s now weakened substantially. Just checked PRELX. It’s flat over 13 weeks and ahead 2.4% over the past 4 weeks, reflecting the weaker dollar.

FD1000

Investment professionals come up with new terminology every several years and try to convince their clients they found a new and great investment ideas just to find years later the old ones still work and most times even better.
How many times did you hear/read that value, high yield, low SD are better just to find that the "stupid" SPY beat all/most of them

I also remember that
Arnott research showed he would do better and it didn't.
AQR funds with plenty research did worse too.

hank

FD - So you know more about investing than the professionals quoted in Barron’s?

Baseball_Fan

Hi All, hmm, candidly, I personally do not doubt that FD1K is a better investor than many professionals, regardless if he does or does not know more about the markets than the professionals, excuse me, so called professionals. He might not be caught up in market dogma, group think, career risk, other people's money, etc...wasn't their some website that tracked the "guru's" and how their predictions panned out, most of them had a batting average of well below 40%...

My real life experience has shown me that many MBA holders from some well known schools are not really that sharp, no common sense, no practical knowledge, BS'd their way thru school, Daddy paid their way thru, had the right connections, taught by career academics who have never walked the walk. I saw a homework assignment come off a fax *ya, it was a few years ago from a co worker from a "Top 10 MBA program" and I thought, WTF, I've had way tougher questions when I was going to the local community college that the class was being taught by a guy who was a youngish retired executive from a tech company and had a net worth over $75MM, came to class like he just cleaned his garage, uber casual. Also was in a executive program class with a gal who was an analyst from a top investment firm...I wouldn't give them a dime of my dough to invest, I have no idea how she got that job but she sure had the credentials from an east coast school etc...no business acumen at all! My old boss had a MBA from the same "Top 10"MBA progam...to quote my finance director....a mental midget when it came to running a business and understanding finance, etc.

Don't buy into the experts etc, think for yourself, think clearly, be open minded.

Best to all,

Baseball_Fan

hank

@Baseball_Fan, I haven’t followed many of @FD1000‘s posts as members’ reputed past performance doesn’t interest me. However, I do enjoy learning about new innovative funds, the trends among various markets, changes at the fund houses where I invest, Fed policy, and different ways of constructing portfolios. So those who have studied FD’s performance posts are the ones that may want to respond. I do enjoy reading Barrons. It may well be that some here are better investors than the ones quoted there. But, I don’t feel Barrons is a waste of money either. I think it’s been helpful to me over many years. Have read it since the early 70s (which pre-dates MFO)

Here’s the quote I earlier referenced. My recollection as to the specific article may have been incorrect. This is from an article that appeared in April 2020 in Barrons. However, I think there has been more said in Barrons. I just don’t have the wherewithal to go back and reread every copy.

- “Industrial analyst Deane Dray also believes safety is important, but he recommends investors take a so-called barbell approach. He suggests an 80% weighting in safer stocks, while reserving 20% for more-cyclical names.” (Article posted online by Barrons April 1, 2020)
-

Here’s what I was able to dig up on Dray’s experience. Doesn’t mean he knows more than any of us. But he doesn’t sound like a lightweight either.

Experience

RBC (Royal Bank of Canada) Capital Markets Managing Director Since Sep 2014 - (tenure 6 years 2 months) - Sellside equity research analyst covering the Multi-Industry & Electrical Equipment sector.

Citi Global Research Director - Jun 2010 - Sep 2014 (4 years 4 months)
New York City Senior equity research analyst covering the Multi-Industry & Electrical Equipment sector. Global sector leader of Industrials. Global sector leader of the water sector

FBR Capital Markets Senior Industrials Analyst
FBR Jan 2009 - Jun 2010 (1 year 6 months)
New York Senior equity research analyst covering the Multi-Industry & Electrical Equipment Sector.

Goldman Sachs Vice President
Goldman Sachs 1997 - 2009 12 years
Greater New York City Area Senior equity research analyst covering
the Multi-Industry & Electrical Equipment Sector.

Lehman Brothers Vice President
Lehman Brothers 1987 - 1997 10 years
Greater New York City Area

Education

New York University - Leonard N. Stern School of Business
Master of Business Administration (M.B.A.)Finance
1980 - 1982

Brown University
Bachelor's DegreeDouble major: Political Science and Law & Society
1976 - 1980

Activities and Societies: Cum Laude Deerfield Academy Deerfield Academy
Deerfield Academy 1972 - 1976

Licenses & Certifications Chartered Financial Analyst

Sourced from Linkedin https://www.linkedin.com/in/deane-dray-cfa-1b1b53a2

carew388

+1 hank I found Barron's to be worthwhile as well-just made sure to skip perma-bull Alan Abelson's melancholy market insights !

FD1000

hank said:

FD - So you know more about investing than the professionals quoted in Barron’s?

It's not about knowing more, it's about backing up a "new" concept with real numbers. The best teacher is the market.
I posted the following list several times:

1) US stocks are over value, the rest of the world is undervalue. US stocks did better in the last 10 years.

2) The GMO team and Arnott have been wrong for 10 years.

3) Gundlach was way wrong when he predicted the 10 year will be at 6% in 2021. Gundlach, the bond king, and his fund DBLTX was beaten by TGLMX for 1-3-5-10 years.

4) Bogle was wrong when he predicted stocks/bonds performance based on the past and averages.

5) Inflation and interest rates can only go up. Both wrong for years.

6) inverted yield signals recession = wrong. High PE, PE10 signal the end of the bull market...wrong again for years.

7) There is no way stocks will have a V recovery in March 2020 based on blah, blah, whatever...and they did.

8) The economy is bad, unemployment is high, the debt is huge = bad future stock market. The reality? Stocks are still up.

I can add more.

9) Investing in value, high yield, low SD are better just to find that the "stupid" SPY beat all/most of them;-)

10) There is no way to have a better risk-adjusted performance. I have done it for years.

Basically, I was always questing many "experts", research and rule of thumps. Most investors would do better with simple, very cheap indexes (Bogle) + hardly trade. The following is optional: use 20% (maybe 30%) to find better risk/reward funds, this task isn't easy and very limited. Examples: PRWCX,VLAIX,VWINX,PIMIX for several years.